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Demonetisation – What will happen to stock markets?

After such a massive step taken by the government, it was apparent that people start asking about the impact of this step on the stock markets. By reading a lot of articles and understanding primarily, the impact of the same, I thought, will summarize it for all of you.

There are many aspects to this:

1. Curb on parallel economy and rise of digital money

As most of you would know, there is a parallel economy which is almost equivalent to the current economy size (no point in throwing big numbers here), but you would know that cash is an important factor in India as far as day to day transactions are concerned. That is going to change. People will move towards plastic and this will mean that a lot of savings will come in the formal system. How many of you save cash at home? Many, right? So, now that will change. You will have to look at avenues to save your money. You can put them in saving account or look at ways to invest them in mutual funds, equity, etc.

I feel that this step will fundamentally change the way people look at digital money. People will start spending more through cards and wallets. This also means, that people will start thinking differently of how they want to save their money. The next step after saving is investments. As lot of formal money would come back into the system, investments in financial products are bound to go up, which again means good news for stock markets.

2. Banks will become stronger in next 2 – 3 years

Banking in India is going to change forever now. You will realize that as more and more money is stacked with banks, they will be in a better position to circulate the money. The only catch is that, even if the Non performing assets (NPAs) come down, the banks have to be careful not to mis-use this liquidity in reckless lending. Strong lending norms should be implemented on banks and this is something that has already started from Mr. Raghuram Rajan’s era and I am sure Mr. Patel will continue to work in this direction.

More deposits in banks, will also mean that the banking stocks are going to get better, with ability to post better results. Investing in some good banks will definitely bear good fruits to the astute investors.

Also, the interest rates will go down, which will mean two things. One is that the interest on loans will reduce, leading to more money with people to spend. As I was writing this, the news has come that Axis Bank is the first bank to reduce interest rates in home loans. Because of this, consumer industry will see growth and some good stocks of consumer companies will really do well.

Another thing is that, interest rates on fixed deposits will come down, making them further unattractive and this will help people move their money to mutual funds, equity, etc.

3. Real estate market will correct

It is said that the maximum black money is used in real estate and jewellery business. With no black money in the short term, you can expect a fall in the real estate prices for the next 2 – 3 quarters. Already, lot of my friends who are in the home loan business cribbing about how people are not interested in buying homes right now. Lot of investors will delay their idea of real estate investments for a while and this will lead to a lot of investments diverted to stock markets. Domestic money in stock markets is always good as we are less dependent on foreign funds and that brings stability to the market.

4. Government liability written off

Let me explain this. There is 15 lakh crore in cash in the market, already as on date, 4 lakh crore is deposited and the government is expecting another 10 – 11 lakh crore back into the system. However, many analysts are predicting that about 3 – 4 lakh crore will never come back, considering that it is all black money. If this happens, what does it mean? The money that is given by RBI to banks is a liability on government, and if 3 – 4 lakh crore is written off, this liability straight away vanishes. Hence, this will have an impact on the fiscal deficit of the country. If the fiscal deficit goes down, the government can either increase government spending leading to speedy growth or also look at reducing taxes, which will mean more money in the market for people to spend. In either case, the economy will do better, leading again to our stock markets to go up.

5. Gold prices will fall

With the same example of real estate, even the jewellery business is going to get impacted. In the short term the gold prices will have to correct in India, making it an unattractive investment option in the near future. Also, there are global factors playing their hands in bringing gold prices down (Considering that dollar can get stronger based on what we have seen and how the markets are expecting Trump to do well from American economy perspective, but more on this in some other discussion). People shying away from Gold in the near term, will again help financial products as people will tend to divert their investments towards good old equity.

As you can see, there are multiple factors, which are coming together to set the stage for an amazing bull run in the markets for the next 2 – 3 years. The current set back, which can also slide further to about 8000 levels in Nifty, is an opportunity to buy some amazing stocks at amazing prices. So, if you have not yet invested, I suggest, you start investing today!